Some Ironies just should not be passed over.
The Collapse of Monetarism and the Irrelevance of the New Monetary Consensus
25th Annual Milton Friedman Distinguished Lecture at Marietta College, Marietta, Ohio
March 31, 2008.
by James K. Galbraith
On November 8, 2002, then-Fed Governor Ben S. Bernanke spoke in Chicago to honor
Milton Friedman on his 90th birthday. Bernanke said, “As everyone here knows, in their
Monetary History Friedman and Schwartz made the case that the economic collapse of 1929-33
was the product of the nation’s monetary mechanism gone wrong. Contradicting the received
wisdom at the time they wrote…Friedman and Schwartz argued that ‘the contraction is in fact a
tragic testimonial to the importance of monetary forces.” In that era, Bernanke argued, the Fed
tightened to thwart speculation. One would argue that in 2005-7 it tightened to pre-empt
inflation. No matter. You can see the difficulty without my help. At the close of his speech,
Bernanke stated, “Let me end my talk by slightly abusing my status as an official representative
of the Federal Reserve. I would like to say to Milton and Anna: Regarding the Great
Depression. You’re right, we did it. We’re very sorry. But thanks to you, we won’t do it again.”
26. Less than six years later, Chairman Ben Bernanke faces an intellectual dilemma. He can
stick with Milton, in which case he must admit that the only possible cause of the present
financial crisis and evolving recession is the tightening action of the Federal Reserve, against
which, when it started back in 2004 only two voices were heard: that of Jude Wanniski, the
original supply-sider, and my own, in a joint Op-Ed piece no one would publish except the
Washington Times. Or he can stick with the so-called “new monetary consensus,” which holds
that the Fed should now return to its inflation targets, pursue a much tighter policy, and that no
recession will result. If Bernanke chooses the first, he must of course assume responsibility for
the unfolding disaster. He cannot, logically, stay with Friedman without admitting the error of
the late Greenspan years and his own first months in office. If he chooses the second, he must
repudiate Friedman, and hope for the best. The two courses are absolutely in conflict.
27. My own view is that Friedman and Schwartz were right on the broad principle — monetary
forces are powerful — but wrong in its application. The Federal Reserve alone did not “cause”
the Great Depression. Intrinsic flaws in the financial, corporate and social structure, combined
with bad policy both before and after the crash, were jointly responsible for the disaster, while
the crash itself played a precipitating role. The danger, today, is that something similar could
again happen. Thus I do not think that rising interest rates alone caused the present collapse, and
I do not think that cutting them alone will cure it. They did so in conjunction with the failure to
regulate sub-prime loans, with the permissive attitude to securitization, with the repeal of Glass-
Steagall, and with the general calamity of turning the work of government over to bankers.
28. But if Friedman was wrong, the “new monetary consensus” is even more wrong. That
consensus, having nothing to say about abusive mortgage loans, speculative securitization and
corporate fraud, is simply irrelevant to the problems faced by monetary policy today. Its
prescriptions, were they actually followed, would lead to disaster. Its adherents, who of course
never had a consensus on their side to begin with, have made themselves into figures of fun.
There is, mercifully, no chance that Ben Bernanke will actually choose to follow their path.
29. And if both sides of Bernanke’s dilemma are wrong, what is a beleaguered central banker to
do? I have an answer to that. Let Ben Bernanke come over to our side. Let him acknowledge
what is obvious: the instability of capitalism, the irresponsibility of speculators, he necessity of
regulation, the imperative of intervention. Let him admit the intellectual victory of John
Maynard Keynes, of John Kenneth Galbraith, of Hyman Minsky. Let him take those dusty tomes
off the shelf, and broaden his reading. I could even send him a paper or two.